SEC Complaint Alleges Western International and Five of its Brokers Violated Reg BI on L Bond Sales
On June 15, 2022, the Securities and Exchange Commission (SEC) filed a Complaint (Complaint) in federal court in the Central District of California naming broker-dealer Western International Securities, Inc. (Western) and five of its registered representatives as Defendants, including Nancy Cole, Patrick Egan, Andy Gitipityapon, Steven Graham, and Thomas Swan (Registered Representatives). The Complaint alleges that Western and its Registered Representatives recommended L Bonds to certain retail customers -- as offered by financially beleaguered GWG Holdings, Inc. (GWG) of Dallas, Texas -- without a reasonable basis to believe the investments were, in fact, in the customer’s best interest.
As alleged by the SEC in its Complaint, the Defendants’ conduct amounts to a violation of the Best Interest Obligation under Rule 15l-1a of the Securities Act of 1934 (Reg BI). The L Bonds as offered by GWG were, in fact, high-risk and illiquid, and moreover, only suitable for investors with substantial financial resources. Those L Bonds relevant to the SEC’s Complaint paid fixed interest of 5.50 – 8.50%, based upon the maturity period for the bond; GWG offered maturities of 2, 3, 5 and 7-year periods. The recommendations by Defendants to certain retail investors, many of whom were living on fixed incomes and had only moderate risk tolerances, allegedly amounted to violations (among other alleged violations) of Reg BI’s “Care Obligation” because neither Western nor its Registered Representatives exercised the requisite diligence, care, and skill to understand the risks, rewards, as well as costs associated with high-risk and illiquid L Bonds, as offered by GWG.
GWG was incorporated in 2006, and through much of its existence, focused its business on the acquisition of life insurance policies in the secondary market. GWG raised capital for the purchase of life insurance policies primarily through the sale of bonds, marketed under the name “L Bonds” to retail investors nationwide through a network of broker-dealers, including Western. The success of GWG’s business model was dependent on it collecting more upon maturity of life insurance policies within its portfolio than it had paid to purchase, finance, and service these same policies. Therefore, GWG had to be able to buy the insurance policies at a deep enough discount to cover its borrowing and operational costs.
In recognition of the high-risk nature of its business model, GWG made certain disclosures to potential investors. For example, within its 2020 Prospectus, GWG disclosed that investing in L Bonds involves a “high degree of risk, including the risk of losing [one’s] entire investment” and “investing in L Bonds may be considered speculative” in addition to the fact that L Bonds are illiquid investment products, essentially corporate bonds with no secondary market to buy and sell L Bonds. As recently reported, on April 20, 2022, GWG filed for Chapter 11 bankruptcy protection, and in connection with its bankruptcy filing, noted an ongoing SEC investigation into its business model and business practices of selling bonds through a network of third-party broker-dealers.
FINRA-member broker-dealers like Western, and by extension their affiliated financial advisors, such as the Registered Representatives named in the SEC Complaint, must ensure that adequate due diligence is performed on any investment recommended to customers. In particular the duty to perform adequate due diligence is arguably more pronounced when recommending more esoteric and non-conventional alternative investments, such as GWG L Bonds. Furthermore, the newly adopted Reg BI, or Best Interest Obligation, is only satisfied by compliance with its four Component Obligations: Disclosure Obligation, Care Obligation, Conflict of Interest Obligation, and Compliance Obligation.
The Care Obligation of Reg BI mandates that a broker-dealer like Western and its financial advisors exercise reasonable diligence, care, and skill to understand the potential risks, rewards, and costs associated with a recommendation of a securities transaction to a retail customer. In those instances when a brokerage firm or its affiliated financial advisors fail to adhere to the Care Obligation of Reg BI, then this may give rise to a claim against a brokerage firm or a financial advisor.
The attorneys at Giarrusso Law Group LLC have considerable experience with complex and esoteric investments, including non-conventional alternative investments such as L Bonds offered by GWG Holdings, Inc. Investors may pursue a claim to recover their losses through FINRA arbitration, or in some instances, by litigation. Investors who wish to discuss a possible claim may contact us by telephone at (201) 771-1115 or by email at info@gialawgroup.com for a no-cost, no-obligation consultation.